How to Deal With the Financial Impacts of Divorce
Be Prepared: Know Your Financial Obligations and How to Protect Yourself
Arguably the most devastating cost of divorce is its effect on the family, but divorce can also be financially damaging. Your income may be affected, and you could find yourself leaving the marriage with high debt—not to mention negative impacts on your credit score. Knowing how best to protect yourself can potentially make divorce less expensive and perhaps a little less painful.
What Are Your Financial Obligations: Child Support and Alimony
One of the central financial issues of divorce involves the payment of child support or alimony. Child support payments are calculated by the state in which the divorce was granted. Most state guidelines account for things like each parents' income, the number of children, and the custody agreement reached.
If you're ordered to pay child support as part of your divorce agreement, you're legally obligated to pay it. Child support can be reviewed and adjusted periodically, but you should consider how these payments will fit into your monthly budget.
Another potential financial obligation in a divorce may be spousal support. Alimony is separate from child support and is generally seen as a temporary measure to aid spouses who may see their income shrink dramatically after the divorce. Spousal support typically has a specific end date, as does child support. Again, these are payments that would have to be incorporated into your post-divorce budget if the court orders you to make them.
You'd also need to consider your budget if you'll be receiving child support or alimony. These payments may be necessary to cover your day-to-day living expenses. If you're able to meet all of your bills with your current income, child support or alimony may be "extra." You'd then have to decide how to allocate that money best.
For example, you may use child support to fund 529 college savings accounts for your children or create an emergency savings cushion with alimony payments. Remember also that alimony has to be reported as income on your taxes, whereas child support does not.
Beyond that, you'll need to consider how to reshape your budget once child support or spousal support payment ends. If, for instance, you don't have enough income coming in to replace those funds, you may have to consider pursuing a different line of work or going back to school to advance your career. In that scenario, you'd have to balance the financial cost of paying tuition and potential costs associated with childcare against what your higher earning potential might be.
Division of Property in a Divorce
Unless you have a prenuptial agreement, your state's laws determine how your assets are divided in a divorce. A total of nine states (AZ, CA, ID, LA, NE, NM, TX, WA, and WI) are community property states. Community property means assets acquired during the marriage by either spouse are considered joint marital assets. These joint assets will generally be divided equally in a divorce.
In the remaining states, property division is based on "equitable distribution." Equitable doesn't necessarily mean "equal" distribution. The court will consider many tangibles and intangibles deciding how to divide assets.
What Are Your Marital Assets?
Before going to an arbitrator, mediator, or attorney, you should do your homework. List your marital assets and get appraisals where necessary for art, antiques, and other items. You will want to have a handle on the values of the assets like those listed on the following list:
- Retirement plans
- Cash-value life insurance policies
- Stocks, bonds, mutual funds
- Stock options
- Bank accounts
- Tax refunds
- Accumulated vacation pay
- Frequent flier miles
- Loans to others
- Artwork or antiques
- Collectibles, tools
- College funds
All of these things will need to be addressed as part of the divorce settlement. You'll also want to be aware of any joint debt or liabilities. That might include the mortgage on your home, home equity loans or lines of credit, student loans, credit cards, car loans, or loans that you applied for jointly. Just like assets, liabilities may also need to be divided in a divorce.
Direct and Indirect Financial Impacts of Divorce
Divorce can have a significant impact on your financial outlook. In many cases, it's worthwhile to spend the money to consult a financial planner to assess the real value of your assets, determine who's responsible for marital debts, consider tax consequences, and get general financial planning advice before a divorce settlement.
You should also consider the cost of the divorce itself. Hiring an attorney can become expensive if you and your soon-to-be former spouse aren't able to agree on custody arrangements, child support, or the division of assets. Consider how the cost of dragging out a divorce could affect you over the long-term if you're saddled with a sizable attorney bill afterward.
How to Protect Yourself Financially in a Divorce
A prenuptial agreement can offer financial protection to both spouses in a divorce. If you were married without one, your next best line of defense is knowledge. While it's always important to act as partners in marriage—particularly when it comes to finances—each spouse needs to educate themselves about finances in the divorce. Spouses should be aware of their debts, investments, family income, and any other assets, including how they're titled.
If it's clear that a divorce is in the making, it may be wise to close any joint bank accounts and open individual accounts. However, you may want to consult your attorney first before taking assets from a joint bank account. Cancel any jointly-held credit cards and open new ones to prevent your spouse from incurring further debt under your name. Also, if you plan to buy a new home during a divorce, you need to be aware of the legal requirements and restrictions.
Be aware that closing accounts and opening new ones can ding your credit score in the short-term. New credit inquiries can trim a few points off your score. It may be worth a minor negative credit score impact to avoid the accumulation of new joint debt for which you could be held legally responsible.
When your divorce is final, and assets have been legally divided, change names on house deeds, stocks and bonds, and car titles as needed. Remember to change the beneficiaries on your investments, retirement plans, life insurance policies, and savings accounts. Also, don't forget to update your will.
Periodically check your credit report to ensure your spouse hasn't incurred debts in your name since your divorce or separation. Then continue to monitor your credit report and score regularly.
Divorce can be financially devastating to one or both parties. It's possible to get through it with your finances intact. Educating yourself and taking a few precautions can reduce the financial impact on you and your children.